Freitag, 23. November 2012

Exit Consents Killed in England?

posted by Anna Gelpern

The English High Court just ruled in Assenagon Asset Management S.A. v. Irish Bank Resolution Corporation Limited (formerly Anglo Irish Bank) that a popular technique used to pressure bondholders to participate in a debt restructuring, as deployed by Anglo Irish in late 2010, violated English law and the terms of the Trust Deed. I have not been able to find a link to the opinion yet, but there is some good reporting here and here, including links and block quotes. This is potentially huge for bank, sovereign, and all manner of other bond restructuring--plus competition among financial jurisdictions.

Exit consents are essentially votes by bondholders participating in a bond exchange to amend the old bonds on their way out, so as to make them unattractive to holdouts. The issuer typically asks participating holders to amend the old debt as part of the exchange offer. Knowing that exit consents are on the table makes creditors think twice before holding out: if participation is high enough for the exit vote to succeed, holdouts can see the value of their bonds evaporate, lose enforcement rights, or "merely" lose all liquidity in the remaining instruments. In the Anglo Irish case, non-participating sub debt was made subject to a call option at 1 cent on 1000 euros.

In 1986, the Delaware Chancery Court said in Katz v. Oak Industries Inc (508 A.2d 873) that exit consents were not a breach of good faith by the issuer. The English High Court said that they amount to an abuse of power by the majority, "oppressive and unfair" to the minority. Interestingly, it did not distinguish between the super-nasty exit consents of the sort used in Anglo Irish and the middling defensive sort used in the past by other debtors, such as Uruguay. The English court also ruled that the exiting votes should not have been counted because they were effectively cast on behalf of the debtor, Anglo Irish, and should have been ignored by the terms of the trust deed. Note that even though the English court ruled on grounds easily distinguishable from Katz, it made a point of parting ways with Katz.

Here is why this is a really big deal:

1. The exit consent technique is *pervasive*. Tons of past and imminent restructurings (think Spanish banks) are at stake. Contrary to press reports, however, Greece did not use exit consents in its English law bond exchange, so that is in the clear.

2. Particularly for sovereigns and banks, where there is no bankruptcy or bankruptcy/resolution is fraught with systemic consequences, this decision takes away a major source of flexibility (bondhoders might say abuse). Bail-in just got harder when it might matter the most.

3. The contours of inter-creditor good faith duties just got broader and fuzzier (see alsohere). The operation of good faith in bondholder votes going forward could be a challenge. This could have particularly big implications for widespread adoption and use of Collective Action Clauses.

4. Now there is another big incentive for bondholders to use English law. People are already paying attention, after Greece ran roughshod over its local law debt but ended up paying on some English law bonds. This is another, potentially more broadly applicable reason to come to London.

A People's History of Collective Action Clauses

Abstract: For two decades, collective action clauses (CACs) have been part of the official-sector response to sovereign debt crisis, justified by claims that these clauses can help prevent bailouts and shift the burden of restructuring onto the private sector. Reform efforts in the 1990s and 2000s focused on CACs. So do efforts in the Eurozone today. CACs have even been suggested as the cure for the US municipal bond market. But bonds without CACs are still issued in major markets, so reformers feel obliged to explain why they know better. Over time, a narrative has emerged to justify pro-CAC reforms. It relies on history and portrays CACs as novel solutions to previously-unappreciated coordination problems among bondholders.

But this pro-CAC narrative is based on flawed premises. In this article, we trace the use of CACs in sovereign bonds during the 20th century. We show that CACs have been used for much of that time, although often in forms (such as trustee and collective acceleration clauses) that are no longer central to modern reform debates (which focus on modification clauses). Market participants have long been aware of CACs but did not view them as a necessary part of sovereign bond documentation. Indeed, we recount one episode in which sovereign debt was restructured without anyone seeming to notice that the relevant debt already included CACs.

Contracts do not always include the optimal terms, and, at the margins, the sovereign debt markets might perform better if all bonds contained CACs. But if CACs are to be a central part of reform agendas, they should be defended on functional grounds rather than on contestable historical ones.Number of Pages in PDF File: 47Keywords: sovereign debt, collective action clauses, contracts, EurozoneJEL Classification: f34,working papers series

On-going work on CACs 2012

Following up to the conclusions of the European Council of 24/25 March 2011, a standardized and identical collective action clause (CAC) [66 KB] , including supplemental provisions [52 KB] , has been developed and agreed by the Economic and Financial Committee (EFC) on 18November 2011.

In
accordance with Paragraph 3 of Article 12 of the ESM Treaty, the model
CAC will become mandatory in all new euro area government securities
with maturity above one year issued on or after 1 January 2013, and not 1
July 2013, as previously contemplated.

Its
introduction will not affect any euro area government securities issued
prior to that date unless those securities include a collective action
clause that allows for their modification on a cross-series basis on the
terms contemplated in the model CAC. As a result and except as just
noted, euro area government securities issued prior to 1 January 2013
will not be subject to modification as part of a cross-series
modification pursuant to the model CAC.

The Economic
and Financial Committee has agreed on a schedule for the ESDM to
monitor Member States' progress in implementing the model CAC, with a
view to its timely introduction in all euro area government securities
issued after 31 December 2012.

The ESDM expects to publish a report on the implementation of the model CAC prior to January 2013.

AbstractAmong the policy initiatives designed to tackle the current sovereign debt crisis in the Eurozone is a requirement that all Eurozone sovereign bonds issued after January 1, 2013 include a set of new contract provisions. These provisions, referred to as Collective Action Clauses or CACs, are intended to enable an orderly restructuring of distressed sovereign debt, thereby reducing the need for third-party bailouts. However, making restructurings easier and cheaper could potentially increase the propensity of governments to borrow irresponsibly. A concern about the new CACs, therefore, is that they will result in increased borrowing costs, particularly for sovereigns in the weakest financial condition. By examining the historical relation between CACs and yields on bonds written under New York and English law, we attempt to shed light on what would be the effect of including CACs in Eurozone sovereign bonds. Contrary to previous research and common belief, we find little evidence that CACs increase the cost of capital. Moreover we find that the reduction in yields is larger for the sovereigns that are in the weakest financial condition.